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Foreign Wealth Funds Provide Opportunities for Partnerships

The U.S. government may be facing a budget deficit situation but there are other governments around the world that have been busy deploying their surpluses into investments through sovereign wealth funds. At a recent Deloitte & Touche Webinar on these funds, experts said opportunity should open up for the U.S. commercial real estate industry in the form of partnerships since the funds need local expertise.

Jocelyn Cunningham, a partner in Deloitte’s global real estate practice, described sovereign wealth funds as typically having a long-term investment horizon. Also, a number of these funds, particularly the ones based in the Middle East, derive their funding from oil.

Historically, these funds have been more passive investors, investing for the long term without actively buying and selling assets in the portfolios as the business environment changes. External expertise is required for them to be more active, Cunningham noted. Indeed, many of the sovereign wealth funds are starting to be more active in terms of the frequency of buying and selling of assets in their portfolio. One criticism of the funds has been that they are not transparent to outsiders in terms of the information they are required to provide through annual reports, disclosure of investment strategy and audits.

Among the least transparent sovereign wealth funds are those of the United Arab Emirates, Brunei, China, Qatar, Kuwait, Venezuela, Taiwan and Oman, according to Deloitte.

Guy Langford, an accounting principal with Deloitte’s mergers and acquisitions services practice, noted that the assets managed by these funds have the potential to skyrocket to $12 trillion by 2016, up from $3 trillion currently. Compared with other investment sources, the current asset base of sovereign wealth funds represent more than that of both the hedge fund sector — which manages $1.5 trillion in assets — and the private equity sector — which has $700 billion in assets under management.

In recent years, sovereign wealth funds have increased investment activity, Langford said, going from about six deals in 2003 to about 70 deals in 2007. This represents a “significant swelling in activity.” Over the last two years, these funds have placed $35 billion into financial services.

More sovereign wealth funds are interested in real estate investments, he said, with 19 on a list of 24 invested in real estate. While “it’s clear that there is a substantial allocation to real estate” due to transparency issues, it is not clear exactly what their allocation to real estate is, according to Langford. Deloitte estimates that Temasek, the Singapore fund, has a 10% real estate allocation, while the Abu Dhabi Investment Authority has an 8% allocation.

Deloitte currently sees a mix of factors that will make U.S. real estate more attractive to these investors. For one, crude oil prices, the source of funding for many sovereign wealth funds, are hitting new highs. In addition, the value of the dollar is declining, making U.S. real estate less expensive for foreigners at a time when values are also declining.

The challenge for these funds is that they don’t have an acquisition team in place for transactions, opening up the field for partnerships with investors and operators who have a U.S. presence. Sovereign wealth funds could approach U.S. real estate investments through joint ventures, co-investments or private deals with real estate operators or private equity. They could also invest in real estate investment trusts that are currently considered to be trading below the value of the assets in their portfolios.

Another option for these funds is to invest in distressed real estate operators but sovereign wealth funds could also make development capital commitments to real estate operators and developers to expand their portfolios nationally and internationally. Yet another avenue is to provide hybrid debt financing or other commitments to private equity investors to fill the void created by the slowdown of the private and public debt markets.

A poll of the Webinar audience revealed that about 54% of the participants believe that sovereign wealth funds will invest more in U.S. commercial real estate, with another 33% seeing this as a probable outcome.